Higher Yields on US Government Debt Are Overdue

February 15, 2010 – An article yesterday by the Associated Press delivers a stark assessment on the crushing reality of the US government’s financial plight. It reports: “Proposed belt-tightening steps by President Barack Obama, including a freeze on some nondefense, nonentitlement spending, would make only a small dent in the mountain of debt”, and that the “US debt will keep growing even with recovery.” In other words, the US government plans to go even deeper in debt.

To drive the point home about the precarious state of the US government’s financial position, the article notes: “The government already has made so many promises to so many expanding ‘mandatory’ programs. Just keeping these commitments, without major changes in taxing and spending, will lead to deficits that cannot be sustained.”

Tax increases are the wrong answer because they would further weaken an already fragile economy and therefore lead to little, if any, additional revenue. Spending reductions is the correct choice, but reductions in spending are unlikely. The political will does not exist, at least at the moment.

Importantly, as the AP article indicates, people are finally starting to take notice about the perilous state of the US government’s growing debt burden. Greece has delivered a provocative wake-up call which is rattling markets and vexing governments across the globe. It is therefore becoming increasingly clear that higher yields on US government debt instruments are long overdue to offset the risks, of which there are two – outright default and inflation to lessen the burden of the debt.

The following chart illustrates why everyone should avoid US government debt.

Important tops and bottoms are usually characterized by mania buying and selling, and there are two such examples on this chart. The mania top in yields was made back in 1981 at the climax of Paul Volcker’s inflation-fighting campaign during which yields soared to record highs. The mania bottom in yields occurred in the frenzied aftermath of the Lehman Brothers collapse when shell-shocked investors exited most every asset and in an emotional, knee-jerk response, poured money into US government paper.

Since then the yield on the 10-year T-note has been climbing. We have traded it from the short-side, and it looks like time to do so again. I recommend shorting the 10-year T-note. See Trading.

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My objective is to share with you my views on gold, which in recent decades has become one of the world’s most misunderstood asset classes. This low level of knowledge about gold creates a wonderful opportunity and competitive edge to everyone who truly understands gold and money.